transacting with related parties such as foreign parents or group
companies may find themselves badly hit with the proposed transfer
pricing provisions and also those relating to thin capitalisation, as it
would result in a higher

income tax

(I-T) outgo. A fresh slew of litigation arising from these issues cannot be ruled out.

In simple words, if there is an upward transfer pricing adjustment made
to the income of an Indian company that has earned such revenue through
transactions with its parent or group companies (known as related
parties), then the quantum of such addition needs to be brought back to
India within a stipulated time. Else, it will be treated as a loan given
by the Indian company , which will attract a notional interest charge
and a tax on such interest income. Proposed thin capitalisation rules
have restricted the amount of interest that can be claimed if loans are
taken from related parties. This is because interest is allowed to be
deducted from profits resulting in an I-T arbitrage.
The proposed transfer pricing rules can be illustrated.For example,
Company A, based in Bengaluru, provides software development services to
its US parent. It operates on a cost plus 10% margin (say Rs 110 is
reimbursed by parent for its services). The transfer pricing officer
says the profit margin should be higher at 20%. Company A, if it accepts
this upward adjustment, currently has to pay tax on the additional Rs
20. This adjustment is called primary adjustment.
The Budget
proposals provide that Company A and US parent will need to record this
primary adjustment if it exceeds Rs 1 crore in respective books of
accounts. This recording is called a secondary ad justment. However, if
the Indian company does not accept the adjustment made by transfer
pricing authorities and opts for litigation, secondary adjustment does
not apply . Vijay Iyer, transfer pricing leader at EY
says: &ldquo;If the amount relating to the primary adjustment is
not repatriated to India by the foreign related party within the time
limit (yet to be prescribed), it shall be treated as a loan given by the
Indian company . A notional interest on such loan will be computed. If
the taxpayer does not invoice and collect the sum, interest may continue
to accrue.&ldquo; Hitesh Gajaria, chartered accountant and transfer
pricing specialist, points out that the unintended adverse consequences
and the possibility of double taxation.
&ldquo;Such notional interest will be taxable income in the hands
of the Indian company , on which it would pay tax at 30% plus surcharge
and cess. The US parent may not face any deduction, either for the
upward adjustment (Rs 20 in the illustration) or the notional interest
-both of which it would record in its books. It is not clear how the
Indian company or the transfer pricing official would be able to
influence what the US parent would record in books of account. The
proposed income tax amendment may need to be harmonised with India's
foreign exchange regulations, under which cross-border loans are tightly
governed.&ldquo;
Transfer pricing, thin capitalisation decoded

Transfer
pricing in essence calls for an arm's length pricing between related
parties. Thus, if Company A, which is a captive in India, provides
software development to its parent in the US, the price it charges needs
to be at arm's length (the same price it would charge to third
parties). Transfer pricing provisions ensure that revenue is properly
captured in the source country (which in this case is India). Thin
capitalisation rules by limiting the amount of interest that can be
claimed as a tax deduction if loans are from related parties deter
income tax arbitrage. This is because interest is allowed as a deduction
for computing taxable profits. A company is said to be thinly
capitalised when the level of its debt is much greater than its equity
capital. TNN

transacting with related parties such as foreign parents or group
companies may find themselves badly hit with the proposed transfer
pricing provisions and also those relating to thin capitalisation, as it
would result in a higher

income tax

(I-T) outgo. A fresh slew of litigation arising from these issues cannot be ruled out.

In simple words, if there is an upward transfer pricing adjustment made
to the income of an Indian company that has earned such revenue through
transactions with its parent or group companies (known as related
parties), then the quantum of such addition needs to be brought back to
India within a stipulated time. Else, it will be treated as a loan given
by the Indian company , which will attract a notional interest charge
and a tax on such interest income. Proposed thin capitalisation rules
have restricted the amount of interest that can be claimed if loans are
taken from related parties. This is because interest is allowed to be
deducted from profits resulting in an I-T arbitrage.
The proposed transfer pricing rules can be illustrated.For example,
Company A, based in Bengaluru, provides software development services to
its US parent. It operates on a cost plus 10% margin (say Rs 110 is
reimbursed by parent for its services). The transfer pricing officer
says the profit margin should be higher at 20%. Company A, if it accepts
this upward adjustment, currently has to pay tax on the additional Rs
20. This adjustment is called primary adjustment.
The Budget
proposals provide that Company A and US parent will need to record this
primary adjustment if it exceeds Rs 1 crore in respective books of
accounts. This recording is called a secondary ad justment. However, if
the Indian company does not accept the adjustment made by transfer
pricing authorities and opts for litigation, secondary adjustment does
not apply . Vijay Iyer, transfer pricing leader at EY
says: &ldquo;If the amount relating to the primary adjustment is
not repatriated to India by the foreign related party within the time
limit (yet to be prescribed), it shall be treated as a loan given by the
Indian company . A notional interest on such loan will be computed. If
the taxpayer does not invoice and collect the sum, interest may continue
to accrue.&ldquo; Hitesh Gajaria, chartered accountant and transfer
pricing specialist, points out that the unintended adverse consequences
and the possibility of double taxation.
&ldquo;Such notional interest will be taxable income in the hands
of the Indian company , on which it would pay tax at 30% plus surcharge
and cess. The US parent may not face any deduction, either for the
upward adjustment (Rs 20 in the illustration) or the notional interest
-both of which it would record in its books. It is not clear how the
Indian company or the transfer pricing official would be able to
influence what the US parent would record in books of account. The
proposed income tax amendment may need to be harmonised with India's
foreign exchange regulations, under which cross-border loans are tightly
governed.&ldquo;
Transfer pricing, thin capitalisation decoded

Transfer
pricing in essence calls for an arm's length pricing between related
parties. Thus, if Company A, which is a captive in India, provides
software development to its parent in the US, the price it charges needs
to be at arm's length (the same price it would charge to third
parties). Transfer pricing provisions ensure that revenue is properly
captured in the source country (which in this case is India). Thin
capitalisation rules by limiting the amount of interest that can be
claimed as a tax deduction if loans are from related parties deter
income tax arbitrage. This is because interest is allowed as a deduction
for computing taxable profits. A company is said to be thinly
capitalised when the level of its debt is much greater than its equity
capital. TNN